POLICY BRIEF

GLOBALIZATION OF THE
WORLD ECONOMY: POTENTIAL
BENEFITS AND COSTS AND
A NET ASSESSMENT
January 2003
Number 33

by Michael D. Intriligator

GLOBALIZATION OF THE
WORLD ECONOMY: POTENTIAL
BENEFITS AND COSTS AND
A NET ASSESSMENT

JANUARY 2003
Michael D. Intriligator
Senior Fellow, Milken Institute
Professor of Economics, Political Science, and Policy Studies
University of California, Los Angeles
All rights reserved Copyright 2003

1. Introduction and Purpose

Globalization is a powerful real aspect of the new world system, and it
represents one of the most influential forces in determining the future course of the
planet. It has manifold dimensions: economic, political, security, environmental, health,
social, cultural, and others. The focus here is on the concept of "globalization" as
applied to the world economy. The term was coined in the 1980s, but the concept is an
old one that has different interpretations to different people. Partly as a result of these
different interpretations, there are very different reactions to "globalization," with some
policymakers, scholars, and activists seeing it as a force for advancing the world
economy while others, again all three, seeing it as a serious danger to the world
economic system. (For the former, see Friedman, 2000; Micklethwait and Wooldridge,
2000; and World Bank, 2002. For the latter, see Greider, 1997; Rodrik, 1997;
Bauman, 2000; Gray, 2000; Giddens, 2000; Hutton and Giddens, 2000; Hertz, 2001;
Bhagwati, 2002; Stiglitz, 2002; and Sullivan, 2002)
There are three purposes to this paper. First, it clarifies the notion of
"globalization" as applied to the world economy. Second, it evaluates both the potential
benefits and the potential costs stemming from globalization. Third, it considers how
the costs or dangers stemming from globalization could be offset through wider
international cooperation and the development of new global institutions. (For a related
perspective, see Soros, 2002)
The view taken here, representing the thesis of this paper, is that there are both
positive and negative aspects to globalization, that some of its positive features stem
from the effects of competition that it entails, and that some of the negative aspects that
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could potentially lead to conflicts could be offset by international or global cooperation

through agreements on policy or through the development of new international
institutions. Thus, while globalization can cause international conflicts, it can also
contribute to their containment through the beneficial effects of competition and the
potential for global cooperation to treat economic and other threats facing the planet.
2. Globalization of the World Economy: An Interpretation
"Globalization" is understood here to mean major increases in worldwide trade
and exchanges in an increasingly open, integrated, and borderless international
economy. There has been remarkable growth in such trade and exchanges, not only in
traditional international trade in goods and services, but also in exchanges of
currencies, in capital movements, in technology transfer, in people moving through
international travel and migration, and in international flows of information and ideas.
One measure of the extent of globalization is the volume of international financial
transactions, with over $1.2 trillion flowing through New York currency markets each
day, and with the volume of daily international stock market transactions exceeding
this enormous amount.
Globalization has involved greater openness in the international economy, an
integration of markets on a worldwide basis, and a movement toward a borderless
world, all of which have led to increases in global flows. There are several sources of
globalization over the last several decades. Technological advances that have
significantly lowered the costs of transportation and communication and dramatically
lowered the costs of data processing and information storage and retrieval comprise
one such source. The latter stems from developments over the last few decades in
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electronics, especially the microchip and computer revolutions. Electronic mail, the
Internet, and the World Wide Web are some of the manifestations of this new
technology, where todays $2,000 laptop computer is many times more powerful than
a $10 million mainframe computer of twenty-five years ago.
A second source of globalization is trade liberalization and other forms of
economic liberalization that have led to reductions in trade protection and to a more
liberal world trading system. This process began in the last century, but the two World
Wars and the Great Depression interrupted it. It resumed after World War II through
the most-favored-nation approach to trade liberalization, as embodied in the 1946
General Agreement on Tariffs and Trade (GATT) that has evolved into the World
Trade Organization (WTO). As a result, there have been significant reductions in
tariffs and other barriers to trade in goods and services. Other aspects of liberalization
have led to increases in the movement of capital and other factors of production. Some
economists and historians have suggested that globalization is little more than a return
to the world economy of the late nineteenth century and early twentieth century. At that
time, borders were relatively open and there were substantial international capital flows
and migrations of people when the major nations of Europe depended critically on
international trade as part of the colonial system. This is particularly the view of some
British scholars, looking back to that period of British imperial dominance of the
world economy. While there are some similarities in terms of trade and capital
movements, the period of a century ago did not have some of the major technological
innovations that have led to a globalized world economy today that is qualitatively
different from the international economy of the last century.
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A third source of globalization is comprised of changes in institutions, where

organizations have a wider reach, due, in part, to technological changes and to the
more wide-ranging horizons of their managers, empowered by advances in
communications. Thus, corporations that were mainly focused on local markets have
extended their range in terms of markets and production facilities to a national,
multinational, international or even global reach. These changes in industrial structure
have led to increases in the power, profits and productivity of those firms that can
choose among many nations for their sources of materials, production facilities and
markets, quickly adjusting to changing market conditions. Virtually every major
national or international enterprise has such a structure or relies on subsidiaries or
strategic alliances to obtain a comparable degree of influence and flexibility. As one
measure of their scale, almost a third of total international trade now occurs solely
within these multinational enterprises. With the advent of such global firms,
international conflict has, to some extent, moved from nations to these firms, with the
battle no longer among nations over territory but rather among firms over their share
of world markets. These global firms are seen by some as a threat to the scope and
autonomy of the state, but, while these firms are powerful, the nation state still retains
its traditional and dominant role in the world economic and political system.
Nongovernment organizations, NGOs, have also taken a much broader
perspective that, as in the case of the global firms, is often multinational or global.
Even international organizations, such as the United Nations, the International
Monetary Fund and World Bank, and the World Trade Organization have new global

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roles. Overall, multinational enterprises and other such organizations, both private and
public, have become the central agents of the new international globalized economy.
A fourth reason for globalization has been the global agreement on ideology,
with a convergence of beliefs in the value of a market economy and a free trading
system. This process began with the political and economic changes in Chinas 1978
reforms and then involved a falling dominoes series of revolutions in Eastern and
Central Europe starting in 1989 that ended with the dissolution of the Soviet Union in
December 1991. This process led to a convergence of ideology, with the former
division between market economies in the West and socialist economies in the East
having been replaced by a near-universal reliance on the market system. This
convergence of beliefs in the value of a market economy has led to a world that is no
longer divided into market-oriented and socialist economies. A major aspect of this
convergence of beliefs is the attempt of the former socialist states to make a transition
to a market economy. These attempted transitions, especially those in the former Soviet
Union and in Eastern and Central Europe have, however, been only partially
successful. The nations involved and their supporters in international organizations
and advanced western market economies have tended to focus on a three-part agenda
for transition, involving: 1) stabilization of the macroeconomy, 2) liberalization of
prices, and 3) privatization of state-owned enterprise. Unfortunately, this SLP
agenda fails to appreciate the importance of building market institutions, establishing
competition and providing for an appropriate role for the government in a modern
mixed economy.

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A fifth reason for globalization is comprised of cultural developments, with a

move to a globalized and homogenized media, the arts, and popular culture and with
the widespread use of the English language for global communication. Partly as a
result of these cultural developments, some, especially the French and some other
continental Europeans, see globalization as an attempt at U.S. cultural as well as
economic and political hegemony. In effect, they see globalization as a new form of
imperialism or as a new stage of capitalism in the age of electronics. Some have even
interpreted globalization as a new form of colonialism, seeing the U.S. as the new
metropole power and most of the rest of the world as its colonies. In this view, the rest
of the world supplies the U.S. not only with raw materials and markets on a global
basis, as in earlier forms of European colonialization, but also with technology,
production facilities, labor, capital, and other inputs to the production process.
Whether one sees globalization as a negative or as a positive development, it
must be understood that it has clearly changed the world system and that it poses both
opportunities and challenges. It is also clear that the technological, policy, institutional,
ideological, and cultural developments that have led to globalization are still very
active. Thus, barring a radical move in a different direction, these trends toward greater
globalization will likely continue or even accelerate in the future. One important aspect
of these trends will be the growth in international trade in services that has already
increased substantially but promises even greater growth in the future, especially in
such areas as telecommunications and financial services. The result will be continued
moves toward a more open and a more integrated world as it moves closer and closer
to a planet without borders and to a more integrated, open, and interdependent world
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economy. The result will be even greater worldwide flows of goods, services, money,
capital, technology, people, information and ideas.
3. Impacts of Globalization on National Economies
Globalization has had significant impacts on all economies of the world, with
manifold effects. It affects their production of goods and services. It also affects the
employment of labor and other inputs into the production process. In addition, it
affects investment, both in physical capital and in human capital. It affects technology
and results in the diffusion of technology from initiating nations to other nations. It
also has major effects on efficiency, productivity and competitiveness.
Several impacts of globalization on national economies deserve particular
mention. One is the growth of foreign direct investment (FDI) at a prodigious rate, one
that is much greater than the growth in world trade. Such investment plays a key role
in technology transfer, in industrial restructuring and in the formation of global
enterprises, all of which have major impacts at the national level. A second is the
impact of globalization on technological innovation. New technologies, as already
noted, have been a factor in globalization, but globalization and the spur of competition
have also stimulated further advances in technology and speeded up its diffusion
within nations through foreign direct investment. A third is the growth of trade in
services, including financial, legal, managerial, and information services and
intangibles of all types that have become mainstays of international commerce. In
1970, less than a third of foreign direct investment related to the export of services, but
today that has risen to half and it is expected to rise even further, making intellectual
capital the most important commodity on world markets. As a result of the growth of
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services both nationally and internationally, some have called this "the age of
competence," underscoring the importance of lifelong education and training and the
investment in human capital in every national economy.
4. The Benefits of Globalization Stemming from Competition
It has already been noted that globalization has both positive and negative
effects. This section focuses on the positive effects of globalization, stemming from
competition, while the next will focus on its negative effects that could lead to potential
conflicts. Finally, the last section considers the potential for international cooperation
to diminish or to offset the negative effects of globalization.
Globalization has led to growing competition on a global basis. While some
fear competition, there are many beneficial effects of competition that can increase
production or efficiency. Competition and the widening of markets can lead to
specialization and the division of labor, as discussed by Adam Smith and other
classical economists writing on the benefits of a market system. Specialization and the
division of labor, with their implications for increases in production, now exist not just
in a nation but also on a worldwide basis. Other beneficial effects include the
economies of scale and scope that can potentially lead to reductions in costs and prices
and are conducive to continuing economic growth. Other benefits of globalization
include the gains from trade in which both parties gain in a mutually beneficial
exchange, where the "parties" can be individuals, firms and other organizations,
nations, trading blocs, continents or other entities. Globalization can also result in
increased productivity as a result of the rationalization of production on a global scale

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and the spread of technology and competitive pressures for continual innovation on a
worldwide basis.
Overall, these beneficial effects of competition stemming from globalization
show its potential value in improving the position of all parties, with the potential for
increased output and higher real wage levels and living standards. The result is a
potential for greater human well being throughout the world. Of course, there is the
distributional or equity issue of who does, in fact, gain from these potential benefits of
globalization.
5. The Costs of Globalization and Potential Conflicts
Globalization involves not only benefits, but also has costs or potential
problems that some critics see as great perils. These costs could lead to conflicts of
various types, whether at the regional, national or international level. One such cost or
problem is that of who gains from its potential benefits. There can be substantial equity
problems in the distribution of the gains from globalization among individuals,
organizations, nations, and regions. Indeed, many of the gains have been going to the
rich nations or individuals, creating greater inequalities and leading to potential
conflicts nationally and internationally. Some have suggested the possibility of
convergence of incomes globally based on the observation that the poor nations are
growing at a faster rate than rich nations. The reality, however, is that a small group of
nations, the "tiger economies" of East Asia, have been growing at rapid rates, while
the least developed nations of Africa, Asia, and South and Central America have been
growing at a slower rate than the rich nations. These poor nations are thus becoming
increasingly marginalized. The result has been not a convergence but rather a
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divergence or polarization of incomes worldwide, with the rapid-growth economies

joining the rich nations, but with the poor nations slipping even further behind. This
growing disparity leads to disaffection and possibly even international conflicts as
poor nations seek to join the club of rich nations and have-not nations struggle with
the have nations for their share of world output. This issue of distribution is a major
challenge in the process of the globalization of the world economy.
A second cost or problem stemming from globalization is that of major
potential regional or global instabilities stemming from the interdependencies of
economies on a worldwide basis. There is the possibility that local economic
fluctuations or crises in one nation could have regional or even global impacts. This is
not just a theoretical possibility, as seen in the exchange rate and financial crisis in
Asia, that began in Thailand in 1997 and spread to other Southeast Asian economies
and even to South Korea, with delayed effects in Russia in its economic collapse of
August 1998. These linkages and potential instabilities imply great potential mutual
vulnerability of interconnected economies. A worldwide recession or depression could
lead to calls to break the interdependencies that have been realized through the
globalization process, as happened in the Great Depression of the 1930s, with
competitive devaluations, beggar-my-neighbor policies, escalating tariffs, other forms
of protectionism, etc. The result could be economic conflict gravitating to economic
warfare and possibly even to military conflict, repeating the history of the interwar
period of the 1930s that led to the largest war in human history.
A third type of problem stemming from globalization is that the control of
national economies is seen by some as possibly shifting from sovereign governments
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to other entities, including the most powerful nation states, multinational or global
firms, and international organizations. The result is that some perceive national
sovereignty as being undermined by the forces of globalization. Thus, globalization
could lead to a belief among national leaders that they are helplessly in the grip of
global forces and an attitude of disaffection among the electorate. The result could be
extreme nationalism and xenophobia, along with calls for protectionism and the
growth of extremist or fundamentalist political movements, ultimately leading to
potential conflicts.
It is sometimes alleged that one cost of globalization is unemployment in the
high wage industrialized economies. The relatively low unemployment rates in many
high wage nations and their high rates in many low wage nations disprove this
allegation. National policy and technological trends are much more important
determinants of employment than global factors. A related myth is that globalization is
threatening the social welfare provisions of some states, but other factors are much
more important, including domestic fiscal policy and demographic trends. In both
cases, globalization is a convenient scapegoat for failures of national policy.
It is also important to appreciate that the economic aspects of globalization are
but one component of its effects. There are potential and very important noneconomic
impacts of globalization involving great risks and potential costs, even the possibility
for catastrophe. One is that of security, where the negative effects of globalization
could lead to conflicts, as suggested above. Indeed, the very process of globalization
leading to integration of markets could make conflicts escalate beyond a particular
region or raise the stakes of conflict, for example, from conventional weapons to
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weapons of mass destruction. A second noneconomic area in which globalization

could lead to catastrophic outcomes is that of political crises, that could escalate from
local to large-scale challenges. A third such area is that of the environment and health,
where the greater interconnectedness stemming from globalization could lead again to
catastrophic outcomes, such as global warming and pandemics.
6. The Role of Global Cooperation in Dealing with Global Threats and in
Creating a New Post Cold War System
The last two sections have highlighted both the benefits and the costs stemming
from globalization. Some could see globalization as a very dangerous negative
development by focusing on the costs and the potential for conflict. Others, on the
other hand, could see it as a positive development, one offering unprecedented
opportunities. Both of these views contain elements of truth, but each should be offset
by the other in order to gain a full understanding of the impacts of globalization. There
are twin myths here, the optimistic one that globalization leads to only positive
outcomes and the pessimistic one that globalization leads only to negative outcomes.
Any objective treatment or net assessment, however, would have to recognize both the
benefits and costs of globalization.
What is the net result of globalization, when taking both benefits and costs into
account? The answer depends crucially on the nature of the world system. In a world
beset by conflicts, globalization would probably have a net negative impact.
Conversely, in a cooperative world, globalization would probably have a net positive
impact. Thus, globalization represents a major challenge and at the same time an
unprecedented opportunity in terms of the possibilities for conflict or cooperation. The
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challenge is to create a new world system in the aftermath of the cold war and the
movements toward globalization that would enhance its generally beneficial effects and
that would minimize its actual or potential costs. The key to such a world system will
be cooperation among the nations of the world and dynamic innovation, including the
establishment of new institutions.
The challenge of the present globalized and post cold war economy is
comparable to the challenge facing the winning nations in World War II. The old
world had been destroyed and a new world had to be created. Not one, but two world
systems were created, one in the West and the other in the East. Both involved the
creation of new institutions to replace the ones destroyed in the war. Each side had its
own ideology and organization, that in the West being market oriented and that in the
East being socialist. Now, of course, the ideological divide has dissolved where there
is a convergence of ideology on the value of a market economy.
A small group of Americans helped create a new world system for the West
during the period from 1945 to 1955. One of the major participants was Dean
Acheson, the U.S. Secretary of State during part of this period. His memoirs are aptly
named Present at the Creation, given his role in creating this new world system.
Another was Will Clayton, who developed the blueprints for both the Marshall Plan
and the General Agreement on Tariffs and Trade. These Americans, together with
President Truman, George Marshall, and others created the institutions that brought
the devastated nations of Europe into the world community. These institutions
included GATT, which evolved into the WTO; the United Nations; the World Bank
and the IMF; the Marshall Plan and OEEC (later to evolve into the OECD); NATO;
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and others. These institutions and the new world system that they helped create was
most successful in bringing the nations of Europe, including both former enemies and
devastated allies, into this new world system and in promoting reconstruction and
growth.
The present post Cold War period has some similarities to the one after World
War II in that a new world system must be created. Such a system that would have to
take account of the new situation - that of a world not divided by ideology and one
becoming increasingly integrated. The sequence of revolutions that began in Eastern
Europe in 1989 led directly or indirectly to the end of the Cold War, the demise of the
Warsaw Pact, the unification of Germany, the dissolution of the Soviet Union, and the
attempted transition of the former socialist states to democracy and a market economy,
with only mixed success. The West for its part has been only partially successful in
establishing structures such as those developed after World War II to bring Russia,
other former Soviet states, and Central and Eastern Europe into the world economic
and political system. In some respects, the treatment of the former Soviet Union and its
former allies in the current period is similar to the treatment of Germany after World
War I rather than its treatment after World War II.
Overall, the challenge of globalization will require truly cooperative efforts of
the great nations, especially among the new great powers of the European Union, the
United States, Canada, Japan, Russia, China, India, Brazil and others. Their joint
activity in establishing new political arrangements and institutions could go a long way
to solving global problems, including the economic and other challenges stemming
from globalization. As was true in the earlier period of the creation of a new world, it
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will be necessary to reinvent existing institutions and/or to create new ones so as to

deal with economic challenges, such as the problems of distribution and mutual
vulnerability stemming from globalization. These institutions must have global
perspectives and responses, and they will require substantial resources and
enforcement mechanisms, including some elements of supranational decision-making
and authority, along with appropriate transparency and accountability.
Consider, for example, how global cooperation and new international
institutions can treat the several problems identified earlier as costs or problems of
globalization. The first of these problems was that of the distribution of income and
specifically the gains from globalization both within and between nations. A
supranational institution based on global cooperation could address this problem. It
would, in effect, tax the nations gaining from globalization and use the proceeds to
provide financial and technical assistance to those losing from globalization. This is
already being done in a somewhat haphazard way through the World Bank and, in
particular, its soft lending arm, the International Development Association (IDA) that
provides subsidized loans to poor nations on more favorable terms than the World
Bank provides. It should be done, however, on a more systematic basis, which would
require either a new international institution or an expansion and change in the nature
of the World Bank. The rich nations should be expected to support the establishment
of such an institution as an investment in global stability, assuming they recognize the
dangers of serious disparities in the worldwide distribution of income.
The second of the problems identified earlier as stemming from globalization
was the fragility of the international economic system, leading to mutual vulnerability.
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Again, international cooperation and the development of new institutions or the

expansion of existing institutions could address this problem. The International
Monetary Fund could be instrumental in dealing with this problem. The IMF has
played a key role in providing support to nations that have experienced instabilities, as
in its support for Mexico during the peso crisis and its agreement to support South
Korea during the East Asia financial crisis. A regularized and more credible insurance
against these risks would require a substantial augmentation of the resources of the
IMF, the assets of which have not grown at the same rate as international financial
exchanges. International cooperation could also lead to the implementation of the
Tobin tax, a small tax on foreign exchange transactions that could play a valuable role
in limiting destabilizing currency speculation and, at the same time, provide funding
for international organizations.
The third of the problems identified earlier as stemming from globalization was
that of the perceived loss of sovereignty of national governments and political leaders.
This development could lead to fear of the loss of ability of nations to determine their
economic policies, political disaffection, and the rise of extremist politicians and
political movements. The process of globalization, however, need not lead to a loss of
sovereignty. Once again, international cooperation can play a role in ensuring the
sovereignty of national governments and the proper role for political leaders, drawing
a firm line between what is in the province of these governments and their leaders on
the one side and what is in the province of international organizations and
multinational or global enterprise on the other. Participation in the establishment of the
needed institutions to deal with these and other problems stemming from globalization
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will, by itself, help political leaders to regain a sense of control over their futures and
positions in the global community. For example, the regulatory regimes of nations and
even international organizations have become more porous and more easily overcome
through advances in technology. Examples include the lack of regulation of the global
integrated capital market, of trade in information services that is widely expected to
grow enormously, and of labor and environmental safeguards. Cooperation among
nations and international organizations could offset these developments by themselves
taking advantage of recent technological advances and using them to reassert control
through cooperative activities.
Overall, there are several possible vehicles for cooperation as a way of
responding to the challenges of globalization. One is the strengthening of existing
international institutions. Another is the establishment of new institutions, as in the
case of the World Trade Organization, which has a binding dispute settlement
mechanism of a supranational character. A third is the establishment of larger entities,
such as the European Union, or loose combinations of nations to treat certain
economic issues, such as the G-8 or the Asian Pacific Economic Cooperation (APEC).
Global cooperation through formal or informal institutions provides an
increasingly important mechanism to ensure the proper treatment of global problems,
including those stemming from globalization. Through such global cooperation it
should be possible to ensure equity and stability in a globalized world, leading to
economic growth for all, the transition to a market economy for former socialist states,
and economic development for the poorer nations. Such cooperation is also the way to
treat the noneconomic problems of globalization, including those of environmental and
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health protection on a worldwide basis, freedom from political crises or instability, and
global peace and security for the planet. The challenge will be to develop new modes
of cooperation and new institutions to deal with the challenges of globalization.

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